Ch. 10 Making Capital Investment Decisions

The difference between a firm's current assets and its current liabilites is known as the _____.

net working capital

According to the top-down approach, what is the operating cash flow if sales are $200,000, total cash costs are $190,636, and the tax bill is $1,144?

$8,220 Top-down Approach: Sales - Costs - Taxes (200,000 - 190,636 - 1,144) =$8,220

Investment in net working capital arises when ____.

1. cash is kept for unexpected expenditures 2. credit sales are made 3. inventory is purchased

The rules for depreciating assets for tax purposes are based upon provisions in the:

1986 Tax Reform Act

While making capital budgeting decisions, which of the following sentences is true regarding the initial investment of net working capital?

It is expected to be recovered by the end of the project's life.

What is net working capital?

current assets minus current liabilities

Incremental cash flows come about as a _____ consequence of taking a project under consideration.

direct

tWhen developing cash flows for capital budgeting, it is ______ to overlook important items.

easy

Sunk costs are cots that ______.

have already occured and are not affected by accepting or rejecting a project

If the tax rate increases, the value of the depreciation tax shield will _________.

increase

The computation of equivalent annual costs is useful when comparing projects with unequal __________.

lives

Erosion will ____ the sales of existing products.

reduce

Which of the following are considered relevant cash flows?

- Cash flows from beneficial spillover effects - Cash flows from opportunity costs - Cash flows from erosion effects

Identify the three main sources of cash flows over the life of a typical project.

- Cash outflows from investment in plant and equipment at the inception of the project - Net cash flows from sales and expenses over the life of the project. - Net cash flows from salvage value at the end of the project

Operating cash flow is a function of:

- Earnigs Before Interest and Taxes - Taxes - Depreciation

Once cash flows have been estimated, which of the following investment criteria can be applied to them?

- Payback period - IRR - NPV

When evaluating cost-cutting proposals, how are operating cash flows affected?

- There is an additional depreciation deduction - The decrease in costs increases operating income

Which of the following are fixed costs?

- cost of equipment - rent on a production facility

Which one of the following is the equation for estimating operating cash flows using the tax shield approach?

OCF = (Sales-Costs) x (1-Tax rate) + Depreciation x Tax Rate

What is the equation for estimation operating cash flows using the top-down approach?

OCF = Sales - Costs - Taxes

Which of the following is an example of a sunk cost?

Test marketing expenses

Cash flows should always be considered on a(n) _______________ basis.

after-tax

Using your personal savings to invest in your business is considered to have an _____ _____ because you are giving up the use of these funds for other investments or uses, such as vacation or paying off a debt.

opportunity cost

Which of the following statements regarding the relationship between book value, sales price, and taxes are true when a firm sells a fixed asset?

1. taxes are based on the difference between the book value and the sales price. 2. book value represents the purchase price minus the accumulated depreciation. 3. there will be a tax savings if the book value exceeds the sales price.

Palmer Corp. is choosing between server X and server Y to replace its current equipment. It has gatehred the following information: Server Estimated life NPV X 2 years $143,261 Y 3 years $203,229 If Palmer's required rate of return is 8%, which server should it choose?

Choose Server Y Server X: n = 2 i = 8 PV = -143,261 CPT PMT = $80,336.36 Server Y: n = 3 i = 8 PV = -203,229 CPT PMT = $78,859.66 (Cheaper)

Opportunity costs are _____.

benefits lost due to taking on a particular project

Accounts receivable and accounts payable are not an issue with project cash flow estimation unless changes in _______ are overlooked.

net working capital

Opportunity costs are classified as _____ costs in project analysis.

relevant

The first step in estimating cash flow is to determine the ____ cash flows.

relevant

According to the ______ principle, once the incremental cash flows from a project have been identified, the project can be viewed as a "minifirm."

stand-alone

When analyzing a project, sunk costs ______ incremental cash outflows.

v

Korporate Classics Corporation (KCC) won a bid to supply widgets to Pacer Corporation but lost money on the deal because they underbid the project. KCC fell victim to the:

winner's curse